Market multiples in Business Valuation
One of the most frequent reasons business owners see no value in getting their business valued is because they have heard of industry multiples. We often hear things like "In our industry, we sell for 24 months of revenues, i.e. 2x annual revenues". Unfortunately, selling a business on revenue, or net profit, or EBITDA multiples is like selling a Lexus based purely on mileage, with no regard to of hail damage, engine condition, tire quality etc…
Put yourself in the shoes of a prospective buyer. Lets say you find a business with $5M in annual revenues, $1M in EBITDA and $500K in Net Income. Would you pay a 4x EBITDA for it? You may agree. Now, what if I told you that sales were declining year over year, the operations were running at full capacity with no room for expansion without massive capital investment, the owner was the only management in place, A/R days were twice industry standards, staff morale was low with high turnover, and 90% of sales came from just 3 customers. Still feel like paying a 4x EBITDA multiple? Did I forget to tell you about pending litigation? My bad… Unless you are a turnaround specialist, you probably won’t feel like paying even a 1 or 2x EBITDA multiple.
Lets say, you are now the owner of a business in the same industry with the exact same revenues, EBITDA and Net Income. Except, you have steadily increasing sales, operations at 40% of capacity with plenty of room for additional product or service delivery capability, a diverse customer base, loyal and energetic staff, and professional management in place. Would you want to sell for the same multiples as the above business? If no, then you realize the need to value your specific business.
